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3. Parameters

3.1 PRODUCTION COSTS AS REFERENCE

Regardless of the fact that the evaluation methodology to be employed is based on analysis of the financial flows generated by this productive activity during the period of time addressed by the said investment, the determination of production costs is an indispensable reference.

Traditionally, an initial analysis of the viability of a crop has been conducted by calculating its production costs per hectare, and by estimating its annual yield. This makes it possible to calculate so-called profitability thresholds, which are defined according to the cost structure used. Thus, if, within the said structure, we consider the so-called opportunity costs of the businessman (income from land, interest on invested capital, etc.), this threshold will be the price above which the businessman covers all his production costs, and thus can earn a profit through his business activity proper (Cabalero P., et al, 1992).

However, in order to be able to determine the flow of receipts and payments further out in time, and especially payments stemming from this productive activity, both initially and annually, we can use the cost structure, namely the so-called variable costs, as a reference for calculating them.

The cost system that we shall use (Caballero et al., 1992) is among the most widely accepted systems. With very slight differences, it is used in other highly respected studies of fruit crops (Caballero and De Miguel, 1988; Buxton and Del Campo, 1994), and corresponds to a structure of variable and fixed costs, classified by type (Tables IV and V).

Table IV
Costs of growing oranges (Pta./Ha)

  Conventional production Organic production
A. Variable costs of factors of production    
A.1. Raw materials    
A.1.1. Irrigation water 160 000 151 600
A.1.2. Fertilizers 74 846 165 000
A.1.3. Insecticides, fungicides, herbicides,... 135 440 12 883
A.1.4. Other inputs 8 000 8 000
A.2. Labour (includes irrigation, pruning, treatments, labour and machinery rental) 172 790 433 412
     
Total variable costs of factors of production 551 076 770 895
     
B. Interest on working capital (annual, taking into account duration of average period) 16 073 19 272
     
C. Fixed costs    
C.1. Amortization of planting 16 800 16 800
C.2. Interest on planting 10 500 10 500
C.3. Amortization of capital for equipment 60 000 60 000
C.4. Interest on capital for equipment 15 000 15 000
C.5. Costs of replacing trees and maintaining equipment 10 000 10 000
C.6. Income from land 80 000 80 000
C.7. Taxes and insurance 40 000 40 000
C.8. Certification   1 000
     
Total fixed costs 232 300 233 300
     
D. Total costs (2 + 3 + 4 + 5) 799 449 1 023 467

Source: Authors, based on Caballero P., De Miguel M. D., Juliá J. F., 1992.

 

Table V
Costs of growing mandarins (Pta./Ha)

  Conventional production Organic production
A. Variable costs of factors of production    
A.1. Inputs    
A.1.1. Irrigation water 160 000 151 600
A.1.2. Fertilizers 74 846 165 000
A.1.3. Insecticides, fungicides, herbicides,... 182 844 17 392
A.1.4. Other inputs 8 000 8 000
A.2. Labour (includes irrigation, pruning, treatments, labour and machinery rental) 203 892 511 426
     
Total variable costs of factors of production 629 582 853 418
     
B. Interest on working capital (annual, taking into account duration of average period) 15 739 21 335
     
C. Fixed costs    
C.1. Amortization of planting 18 480 18 480
C.2. Interest on planting 11 550 11 550
C.3. Amortization of capital for equipment 60 000 60 000
C.4. Interest on capital for equipment 15 000 15 000
C.5. Costs of replacing trees and maintaining equipment 10 400 10 400
C.6. Income from land 80 000 80 000
C.7. Taxes and insurance 42 600 42 600
C.8. Certification   1 000
     
Total fixed costs 238 030 239 030
     
D. Total costs (2 + 3 + 4 + 5) 883 351 1 113 783
     

Source: Authors, based on Caballero P., De Miguel M.D., Juliá J.F., 1992.

The following is a description of all categories listed in the cost tables:

  1. Variable costs of factors of production: This represents all variable factors of production. For the sake of greater clarity, it has been broken down into different subcategories.

    A.1. Inputs: This category represents the costs generated by inputs - that is, the value of all inputs immobilized during the productive process.

    A.2. Labour: Includes total costs of the labour required during the production cycle to perform farming tasks. Also included is the cost of renting machinery, since this is the traditional practice whenever the work to be performed is hired out in this manner.

  2. Interest on working capital: This is an opportunity cost. Working capital comprises the combined costs generated by factors of production invested during the production period, and which are used up in a single process. Since this is a form of capital, it generates certain costs in the form of interest, which naturally depend on the interest rate applied and the time that the investments of each factor remain immobilized during the production period - that is, the time taken to recover the capital invested in each factor, through the sale of the product obtained.
    With regard to the interest rate, the base generally used is the price of money, as per bank and savings banks loans, which we shall set at 5 percent.
    The immobilization time is defined as the average or maturity period of the production process, and is calculated as the average of the product of each capital invested in the factors used and the time taken to recover the said capital, weighted with the sum of the invested capital. We shall use 7 months for oranges and 6 months for mandarins.

  3. Fixed costs: This category includes all costs related to fixed factors of production. For the sake of greater clarity and ease of understanding, we have broken down these costs into different subcategories.

    C.1. Amortization of planting and C.2. Interest on planting: These categories reflect the fact that, since wood crops are regarded as an investment, their cost is attributable throughout the entire life of that investment.
    In order to calculate the amortization cost, as a way to account for the depreciation of the planting, any of the familiar methods may be applied, the most commonly used being the "constant quotas" method, which amounts to nothing more than dividing the quoted value by the number of years of the investment.
    The interest, as an opportunity cost, will be calculated by applying the rate considered at half the value of the planting, with a view to distributing it evenly through the years.

    C.3. Amortization of capital for equipment and C.4. Interest on capital for equipment: This is similar to the case of planting, but it must be remembered that the value of the equipment is not that of its components, but that of the components plus the costs of their installation and start-up.

    C.5. Costs of replacing trees and maintaining equipment: This is a fixed cost, as it is regarded as necessary for the proper conservation of the farm.

    C.6. Income from land: This category is regarded as an opportunity cost to the businessman. It is given by the most common market rental values for rural property.

    C.7. Taxes and insurance: This includes taxes, insurance and expenses made to paid to local authorities and other administrative bodies (Property Tax, Social Security,...).

    C.8. Certification: This is the cost incurred by the farmer to have his or her land certified as organic by the Organic Farming Board, which is the agency responsible for inspecting land and verifying the nature of the growing method used.
    In this context, note that, although the established cost, as set out in Tables IV and V, is 1 000 Pta./Ha, registration with the Organic Farming Board requires a single payment of 15 000 Pta., regardless of the surface area registered for organic farming.

  4. Total costs: Shows the sum of all the aforementioned costs.

3.2 INVESTMENT RECEIPTS AND COSTS

Using the technical elements employed in defining the farms addressed in this study, and in accordance with the assumptions made, we can determine the economic parameters defining the investment.

First, we determined the so-called investment cost, or the outlay needed to set the investment in motion. In our case, this payment is limited to the cost of the seedlings and the labour required to plant them, as well as irrigation equipment (Table VI). This investment cost, which is based on the assumption that the conventional growing system will be used until the ninth growing year, will not vary if the investment analysis is carried out with the conventional growing system and the organic growing system.

Table VI
Investment cost (Pta./Ha)

  Orange Mandarin
Planting 420 000 462 000
Installation 600 000 600 000
Investment cost 1 020 000 1 620 000

Source: Authors, based on consultations with experts.

The flow of receipts and payments generated by the investment during the investment's life will give the so-called cash flows. In this regard, it should be mentioned that in addition to ordinary receipts and payments, extraordinary receipts and payments, stemming from the renovation of equipment during the life of the investment, will also be taken into account.

To determine receipts, we began with the data provided by the farms analysed, and compared that data with figures provided in other studies (Caballero P. et al, 1992, and Roselló J., Domínguez A., and Gascón A., 2000). We did not observe any significant differences. We followed the same procedure with regard to prices (Tables VII, VIII, IX and X), taking the average prices earned in the field by the farms studied, and comparing them with those published by the Organic Farming Board of the Valencia Region, for some of its registered farmers. Although we did find a few slight differences, they are scarcely worthy of mention (Annex IV). Thus, for the present study, we shall use sensitivity analysis, with variation intervals, having also noted that they undergo a greater variation, both by season and market.

With respect to production yields, although a slight reduction in yields was observed for organic crops, in the farms studied, the experts consulted (Agricultural College of the Autonomous Government of Valencia) say that in a favourable agro-environmental context, and with appropriate management and technology, that fall in production would occur between the first three and four years after conversion, with the yield recovering thereafter.

Nevertheless, it should be noted that a favourable environment is found with plots of a certain size, which allows a certain degree of isolation of the crop in terms of the effects of conventional agriculture of surrounding plots of land since, on small farms located in production zones where most farmers practise conventional agriculture, it is hard to imagine that a favourable ecosystem can be created.

In the light of all these factors, we shall assume that yields will fall over the first four years after conversion, but will then rise to levels close (ninety percent) to those earned with the conventional growing system.

Table VII
Normal receipts of growing oranges using the conventional system

  Years 1-3 Year 4 Year 5 Years 6-25
Production (Kg/Ha) --- 10 000 20 000 36 000
Price (Pta./Kg) 35 35 35 35
Receipts (Pta./Ha) --- 350 000 700 000 1 260 000

Source: Authors, based on data provided by the farms consulted.

 

Table VIII
Normal receipts of growing oranges using the organic system

  Years 1-3 Year 4 Year 5 Years 6-9 Years 10-11 Years 12-13 Years 14-25
Production (Kg/Ha) --- 10 000 20 000 36 000 29 000 29 000 32 500
Price (Pta./Kg) 35 35 35 35 35 45 45
Receipts (Pta./Ha) --- 350 000 700 000 1 260 000 1 015 000 1 305 000 1 462 500

Source: Authors, based on data provided by the farms consulted.

 

Table IX
Normal receipts of growing mandarins under the conventional system

  Years 1-3 Year 4 Year 5 Years 6-25
Production (Kg/Ha) --- 14 000 22 000 28 000
Price (Pta./Kg) 63 63 63 63
Receipts (Pta./Ha) --- 882 000 1 386 000 1 764 000

Source: Authors, based on data provided by the farms consulted.

 

Table X
Normal receipts of growing mandarins under the organic system

  Years 1-3 Year 4 Year 5 Years 6-9 Years 10-11 Years 12-13 Years 14-25
Production (Kg/Ha) --- 14 000 22 000 28 000 22 500 22 500 25 000
Price (Pta./Kg) 63 63 63 63 63 84 84
Receipts (Pta./Ha) --- 882 000 1 386 000 1 764 000 1 417 500 1 890 000 2 100 000

Source: Authors, based on data provided by the farms consulted.

With regard to the costs of citrus farming, it should be noted that they do not match total estimated costs, since some fixed costs are not shown as such. The cash criterion used in this methodology does not match that of accrued interest. Thus, instead, we consider the initial cost of investment and of extraordinary receipts and payments, which includes equipment renovation (Tables XI, XII, XIII and XIV).

 

Table XI
Normal costs of growing oranges using the conventional system (Pta./Ha)

  Year 1 Year 2 Year 3 Year 4 Year 5 Years 6-25
Inputs            
   Irrigation water 15 835 33 470 63 340 110 850 142 600 160 000
   Fertilizers 31 800 36 880 46 750 61 270 70 063 74 846
   Insecticides, fungicides, herbicides, 19 151 19 151 83 957 110 595 110 595 135 440
   Other inputs 5 500 6 000 6 500 7 000 7 500 8 000
Labour 1 122 400 130 840 140 815 151 860 162 350 172 790
Rep. trees/M. instal. 6 000 8 000 10 000 10 000 10 000 10 000
Taxes and insurance 40 000 40 000 40 000 40 000 40 000 40 000
Total payments 240 686 274 341 391 362 491 575 543 108 601 076

1 (includes irrigation, pruning, treatments, labour and machinery rental)

Source: Authors, based on data provided by the farms consulted.

 

Table XII
Normal costs 1 of growing oranges under the organic system (Pta./Ha)

  Year 10 Years 11-25
Inputs    
   Irrigation water 151 600 151 600
   Fertilizers 165 000 165 000
   Insecticides, fungicides, herbicides,... 12 883 12 883
   Other inputs 8 000 8 000
Labour 2 433 412 433 412
Rep. trees/M. instal. 10 000 10 000
Taxes and insurance 40 000 40 000
Certification 16 000 1 000
Total costs 836 895 821 895

1 Payments for years 1-9 match those of the conventional growing system, under the hypothesis with which we are working.
2 (includes irrigation, pruning, treatments, labour and machinery rental)

Source: Authors, based on data provided by the farms consulted.

 

Table XIII
Normal costs of growing mandarins under the conventional system (Pta./Ha)

  Year 1 Year 2 Year 3 Year 4 Year 5 Years 6-25
Inputs            
   Irrigation water 15 835 33 470 63 340 110 850 142 600 160 000
   Fertilizers 31 800 36 880 46 750 61 270 70 063 74 846
   Insecticides, fungicides, herbicides, 22 850 24 130 105 786 139 350 139 350 182 844
   Other inputs 6 200 6 500 7 200 7 400 7 800 8 000
Labour 1 140 760 155 466 161 937 174 639 186 702 203 892
Rep. trees/M. instal. 6 000 8 200 10 400 10 400 10 400 10 400
Taxes and insurance 42 600 42 600 42 600 42 600 42 600 42 600
Total costs 266 045 307 246 438 013 546 509 599 515 682 582

1 (includes irrigation, pruning, treatments, labour and machinery rental)

Source: Authors, based on data provided by the farms consulted.

 

Table XIV
Normal costs 1 of growing mandarins under the organic system (Pta./Ha)

  Year 10 Years 11-25
Inputs    
   Irrigation water 151 600 151 600
   Fertilizers 165 000 165 000
   Insecticides, fungicides, herbicides,... 17 392 17 392
   Other inputs 8 000 8 000
Labour 2 511 426 511 426
Rep. trees/M. instal. 10 400 10 400
Taxes and insurance 42 600 42 600
Certification 16 000 1 000
Total payments 922 418 907 418

1 Payments for years 1-9 match those of the conventional growing system, under the hypothesis with which we are working.
2 (includes irrigation, pruning, treatments, labour and machinery rental)

Source: Authors, based on data provided by the farms consulted.

The extraordinary receipts and payments generated by the investment consist of those stemming from the renovation of equipment, produced over the life of the investment. In this case, therefore, they will be determined by the renovation of the irrigation system, which has a useful life of 10 years, which will require two renovations, with a residual value of 10 percent for the first two renovations, and 60 percent at the end of the investment's life (Table XV).

The subsidy that may be granted to organic farmers could constitute an additional extraordinary receipt to be considered during the years in which it's granted. It should be noted, however, that since the aforementioned subsidy is suspended (as noted in the first part of our report), it has been decided not to include it in our analysis, although everything points to the approval of further aid in the future. Annex I shows the economic and financial evaluation incorporating the subsidy level that has been granted in the past.

 

Table XV
Extraordinary receipts and payments (Pta./Ha)

  Year 10 Year 20 Year 25
Receipts 60 000 60 000 360 000
Payments 600 000 600 000  

Source: Authors.

 


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